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Sell bonds, buy stocks: Does this trend have legs?

December 8, 2010 |  4:14 pm

Two major stock market indexes hit multiyear highs on Wednesday, another sign that the equity market is benefiting from the bond market’s woes.

While Treasury bond yields jumped to their highest levels since early summer, the Standard & Poor’s 500 index edged up 4.53 points, or 0.4%, to close at 1,228.28, its best finish since Sept. 19, 2008.

That topped the previous two-year high of 1,225.85 reached on Nov. 5 and lifted the S&P’s year-to-date gain into double digits, at 10.2%.

The technology-dominated Nasdaq composite index (charted below) rallied 10.67 points, or 0.4%, to 2,609.16, its highest in nearly three years. The index is up 15% this year.

Nasdaq On Nasdaq, there was a feeding frenzy for two Chinese Internet-related stocks that made their trading debuts Wednesday., China’s largest online video firm, rocketed to $33.44 from its initial offering price of $12.80. Also, E-Commerce China Dangdang Inc., an Internet retailer, jumped to $29.91 from its IPO price of $16.

In the Treasury bond market, yields have soared this week on the heels of President Obama’s deal with Republican leaders to extend the 2001 and 2003 tax cuts, which otherwise would have expired on Dec. 31.

That has bolstered optimism about the economy in 2011 -- a sentiment shift that is driving up bond yields from their extremely low levels of recent months and is encouraging investors to buy stocks instead.

“Without a doubt money is trickling out of bonds and into riskier assets,” said Ryan Detrick, a senior analyst at Schaeffer’s Investment Research in Cincinnati.

Over the last two months the S&P 500 index is up 5.8% while the Pimco Total Return bond mutual fund, the world's largest, has lost 2.6%.

But bullishness about equities already is at high levels, maybe too high for comfort by some classic “contrarian” measures.

The Investors Intelligence weekly survey of independent investment newsletter writers shows 56.2% now bullish on stocks. By contrast, the bulls totaled just 29.4% in late August -- which was exactly when investors should have been buying, as stocks hit two-month lows.

The latest bullish sentiment reading “calls for caution, suggesting lots of funds have now been committed” to the market, Investors Intelligence said in a report Wednesday.

But Detrick argues that, with the end of the year approaching, money managers whose portfolios are lagging in 2010 are likely to be looking for more excuses to buy stocks than to sell.

“We think any and all pullbacks will be aggressively bought as people try to catch up,” he said.

He pointed to continuing market leadership by small-company stocks as another bullish sign. Smaller issues also led blue-chip stocks in 2009.

The Russell 2,000 small-stock index is up 22.2% this year compared with the 9.1% rise in the Dow Jones industrial average.

-- Tom Petruno